``Developments in financial markets since the Committee's last regular meeting have increased the uncertainty surrounding the economic outlook,'' the Federal Open Market Committee said in a statement after meeting today in Washington. ``The Committee will continue to assess the effects of these and other developments on economic prospects and will act as needed to foster price stability and sustainable economic growth.''
The larger-than-forecast reduction by Chairman Ben S. Bernanke, facing his biggest test since succeeding Alan Greenspan 19 months ago, suggests that officials see a serious risk of an economic slump. The six-year expansion is threatened by job losses and a worsening housing downturn.
``Economic growth was moderate during the first half of the year, but the tightening of credit conditions has the potential to intensify the housing correction, and to restrain economic growth more generally,'' the FOMC said.
Today's decision was unanimous. Core inflation has improved ``modestly'' this year, while some risks remain, the Fed said.
``Today's action is intended to help forestall some of the adverse effects on the broader economy that might otherwise arise from the disruptions in financial markets and to promote moderate growth over time,'' the statement said.
Change in Direction
The federal funds rate, which banks charge each other for loans, had stood at 5.25 percent since June 2006. That's when the Fed ended a two-year run of increases that lifted the rate from a four-decade low of 1 percent.
Most economists anticipated a quarter-point, and traders pared bets on a bigger move in recent days as some Fed officials signaled they would be reluctant to back a half-point cut.
The Fed's Board of Governors also lowered the rate on direct loans to banks by half a percentage point to 5.25 percent.
The Fed first reduced the so-called discount rate by a half point on Aug. 17 in a surprise move to restore confidence after some companies found it hard to obtain funds as investors fled riskier assets. The credit crunch was caused by losses in securities tied to subprime mortgages.
The half-point reduction in the federal funds target was forecast by 23 of 134 economists surveyed by Bloomberg News. One hundred and five predicted a reduction of 25 basis points while six forecast no change. A basis point is one-hundredth of a percentage point.
``It's a good risk management move,'' Jan Hatzius, chief U.S. economist at Goldman Sachs Group Inc. in New York, said before the decision. ``If you do 50 and then subsequently find out that 25 would have been sufficient, I don't think that much is lost. The other way around, you do 25 and you find out you should have done 50, that could be pretty bad.''
Investors began anticipating a reduction on Aug. 9, a week before the Fed made the initial discount-rate cut and said risks to growth have ``increased appreciably.'' Two weeks later, Bernanke said in a speech that the central bank would ``act as needed to limit the adverse effects on the broader economy that may arise from the disruptions in financial markets.''
The decision comes two days before Bernanke faces lawmakers in a House Financial Services Committee hearing on the mortgage- market crisis. Representative Barney Frank, the Massachusetts Democrat who heads the panel, on Sept. 7 called for a ``meaningful'' rate cut by the Fed.
Policy makers were forced to shift their focus to growth from inflation in August as rising defaults on subprime mortgages rippled through global credit markets. Asset-backed commercial paper contracted by the most in at least seven years and Countrywide Financial Corp., the biggest U.S. mortgage company, was shut out of the market.
Economic reports show that the deepening recession in housing is taking a toll on other industries. The Labor Department said Sept. 7 that employers cut 4,000 wo...